Tuesday, May 22, 2012

Eurozone: Haute cuisine or down-home dish?

European leaders will meet for an informal dinner tomorrow evening to prepare a growth compact. Firm decisions will probably not be taken, but the pressure on Angela Merkel is likely to increase.

European Council president Van Rompuy has invited European leaders to a dinner party tomorrow evening in Brussels to prepare a common strategy to boost economic growth in Europe. Van Rompuy wants leaders to sign off on a new growth pact in June, which is expected to include a €10bn capital boost for the European Investment Bank, the launch of a series of 'project bonds' to fund key investment infrastructure – backed by the EU budget – and the possibility of reallocating unspent EU Structural Funds to needy countries. It appears that, in recent weeks, a discrete consensus on such a European growth pact has already emerged. Even the expected German opposition has been relatively mild. Clearly, such a growth pact or compact would be in addition to the fiscal compact that commits countries to balanced budgets and more-sustainable public finances.

Even a consensus on the growth compact seems to be emerging; however, this is not where tomorrow’s dinner will stop, enabling everyone to jauntily enjoy the dessert. More controversial issues are also likely to be discussed, potentially leading to stomach upset. Some of these issues are the difficult task of how to resolve problems in Spain’s financial sector and a possible role for the ESM in direct bank recapitalisation.

Clearly, Van Rompuy wants to stimulate a more-fundamental discussion on the future of the Eurozone, beyond the current crisis management. “It is not too early to think ahead and to reflect on possible more fundamental changes within the EMU,” he said. “In many ways, the perspective of moving towards a more integrated system would increase confidence in the euro and the European economy generally.” Clearly, such a discussion does not come too early; let us hope it does not come too late. With a clear vision for the future of the Eurozone in mind, it could be easier to find the right answers to the current crises.

In the context of this more-fundamental discussion, it is interesting to note that tomorrow’s dinner will be the third encounter between German chancellor Merkel and France’s new president Hollande within slightly more than a week. It is still a relationship in the making, illustrated by the fact that commentators have trouble finding a catchy portmanteau like ‘Merkozy’. First ideas, such as ‘Merk-ande’, ‘Fran-gela’ or ‘Mer-de’, have clearly failed the test. Hollande does not seem to tire of pushing forward his ideas of a common Eurobond, and the number of potential allies is increasing. However, even at the risk of falling into European isolation, German chancellor Merkel still looks very resistant to the idea of Eurobonds. At least for now. Ideas for a product like debt redemption funds are gaining increasing popularity in Germany. However, in our view, chancellor Merkel would only be willing to accept any kind of common Eurobond if and when moral hazard can be ruled out. For this, fully-fledged ratification and implementation of the fiscal compact should be a minimum requirement for any German moves on Eurobonds.

In short, tomorrow’s dinner party is unlikely to yield any tangible results, but it could at least pave the way for a growth compact in June. A growth compact with a clear European flavour, but without giving up on austerity. Unfortunately, we do not know the menu of Herman Van Rompuy’s dinner party tomorrow evening. Still, it seems clear that Van Rompuy will have to find the right balance between tap water and champagne, between the French haute cuisine and German down-home dishes.